1.02.2013

Dividends are showering down on investors like sugarplums. In 2012, companies in the Standard & Poor's 500-stock index will pay out regular cash dividends of $281 billion, predicts S&P Dow Jones Indices. That is 17% higher than 2011 and 13% above the previous record in 2008—without even counting all the dividends that companies might have paid in January but have shifted into 2012 to give their shareholders a tax break.

This could be just the beginning of a long-term change in the way companies treat cash and their outside shareholders. If it continues, investors will end up vastly better off than they are now.

Until recently, dividends have been in a long decline, replaced in popularity by share repurchases in which companies use excess cash to buy back their own stock. These "buybacks" reduce the number of shares outstanding, proportionately raising the earnings of the remaining shares. Unfortunately, too many companies buy their shares back when the price is inflated and shun buybacks when the stock is cheap—turning a strategy that can make the firm more valuable into one that fritters away shareholders' wealth.

... there are two basic reasons for buybacks. First, the company may not have anything better to do with its cash and they view this as having a better potential return than an investment in its own shares. In other words, the board of directors simply thinks a stock is too cheap.
The second reason is to increase earnings per share. Fewer shares mean EPS reports look more impressive than they really are.

The green area in the middle is the sweet spot: Initial dividend yields of between about 3% and 9%, combined with dividend growth rates of about 4% to 17%. Those are generally sustainable numbers, and it is where we will find most of the best dividend stocks for long-term investing.